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Risk recovery and Fed cuts bodes well for EM outperformance

EHSAN KHOMAN
Head of Commodities, ESG and
Emerging Markets Research –
EMEA
DIFC Branch – Dubai
T:+971 (4)387 5033
E: ehsan.khoman@ae.mufg.jp

 

SOOJIN KIM
Research Analyst
DIFC Branch – Dubai
T: +44(4)387 5031
E: soojin.kim@uk.mufg.jp

 

LEE HARDMAN
Senior Currency Analyst
Global Markets Research
Global Markets Division for EMEA
T: +44(0)20 577 1968
E: lee.hardman@uk.mufg.jp

 

MUFG Bank, Ltd.
A member of MUFG, a global financial group

Macro focus

The incoming data over the past month, including the August employment report, clearly points to a slowing US economy with restrictive monetary policy. The Fed has already articulated imminent sequential cuts – (i) first in Fed Chair Powell’s speech at Jackson Hole and; (ii) second echoed in remarks by Williams and Waller post-NFP. The question is at what speed. The still-low level of layoffs and positive (but fading) labour supply shock appear to be a source of comfort for the Fed, leaving them seemingly less eager to cut by more than 25bp at the 18 September FOMC meeting. From an EM perspective, investors increased confidence in the start of the Fed easing cycle, combined with a recovery in risk assets from their early-August lows, has paved the way for EM fixed income outperformance, especially for EM local assets. The pivot from inflation to growth apprehensions by the Fed is likely to be supportive for EM assets, and we believe that it will lead to a broadening out of the EM cutting cycle – we expect central banks in the Philippines, Singapore, South Africa, South Korea, Taiwan and Turkey to join their rate-cutting peers in LatAm and CEE by initiating their rate-cutting cycles, and supporting their respective local rate curves.

FX views

Emerging market currencies have weakened modestly against the USD over the past week. Smaller 25bps cuts from Fed would only provide short-term relief for USD amidst slowing US labour market. First presidential debate between Trump and Harris could have bigger market impact as well. Falling commodity prices adding to concerns over weak growth in China posing downside risks for LatAm FX.

Week in review

Inflation in Turkey fell sharply in August, whilst the Central Bank of Turkey implemented regulatory changes to incentivise banks to raise the rates on conventional TRY deposits, to accelerate the transition from FX-protected deposits (KKM) into TRY and to tighten TRY liquidity. The Central Bank of Egypt kept all policy rates on hold with a dovish bias – we still expect 200bps of easing before year-end. The National Bank of Poland (NBP) kept rates on hold with communication signalling that cuts comes come in 2025. Finally, S&P Global Ratings upgraded Jordan’s long-term credit rating from B+ to BB- (stable) on 6 September.

Week ahead

This week is a busy one in EM EMEA. There will be a rates meetings in Russia (13 September). CPI data will be released in Hungary, Czech Republic, Ukraine and Egypt (all on 10 September), Romania and Russia (both on 11 September) and Israel (15 September). Finally, balance of payments data will be released in Turkey (12 September) and the final August CPI print will be released in Poland (12 September).

Forecasts at a glance

Growth across the EM universe is set to stabilise as domestic fundamentals offset external drags, with some rotation from the largest to smaller EMs. Inflation and interest rates are both “over the hump” – disinflation is progressing, and the decline in rates will continue and broaden for the remainder of 2024.

Core indicators

The latest weekly IIF flow data signalled that EM securities witnessed USD10.2bn of outflows in the week ending 6 September August. We reiterate that the relationship between EM currencies and Fed decisions are crucial – higher rates normally strengthens the US dollar, diminishing the appeal of EM currencies, which can lead to capital outflows and increased borrowing costs for EM.